05 Apr Asset based lending isn’t the only choice for your business
Asset-based lending has traditionally been used by businesses to fund expansion, close gaps in working capital, and cover unforeseen expenses. It’s often seen as a fast, attainable, flexible and cost-effective alternative to mainstream lending for successful businesses. Yet asset-based loans do sometimes come with drawbacks, including lack of control, higher costs and greater risks. With an innovative financial product such as Pay4’s revolving supplier payment facility, there is a smarter option available. Built for quality businesses that need fast, flexible finance to fund their growth.
What is asset-based lending?
Asset-based lending allows a business to borrow a pre-agreed sum of money based on the liquidation value of specific assets on its balance sheet.
It can be secured against many different types of assets which are used as collateral, including both tangible and intangible.
Usually the types of assets used for asset-based lending include:
- Stock Inventory
- Plant and machinery
- Accounts receivables (eg. unpaid customer invoices)
- Property assets
Then the lending organisation undertakes an appraisal of these eligible assets before the credit is agreed. Credit is then afforded against a percentage of the agreed value of these assets.
The percentage is generally 70-80 percent of eligible receivables and 50 percent of finished inventory value. The amount of available credit fluctuates to reflect the value of the assets. For example, when old customer invoices are paid and new ones created. Then the value of the assets (in this case receivables) will alter.
Asset-based lending can take the form of a term loan, HP/leasing, or a revolving line of credit.
Eligibility, default and risk
Security and risk considerations for eligibility are weighed primarily against the borrower’s assets (including customer invoices). Cash flow is generally a secondary determining factor. This means that applicants for asset-based lending often do not require as high a credit rating in the traditional sense.
In order to be able to secure asset-based lending, businesses generally need to have:
- Marketable assets
- Lien-free accounts receivable, inventory or equipment
- Robust collection and invoice strategies
- Solid financial statements.
Asset-based lending often takes the form of accounts receivable financing (commonly known as factoring or Invoice Discounting). Here the stability of a company’s customer base is just as important as the creditworthiness of the borrower.
Business owners generally do not have to provide any personal collateral or guarantees. Or raise cash from their personal account. Only business assets are taken into account. Yet if a business fails to repay the loan or defaults, the lender will seize the collateral. Then sell the business assets in order to recoup its loan amount. It is here in particular where asset-based lending opens a business up to significant risk.
Who uses asset-based lending?
Asset-based lending is a popular source of capital for businesses that are established, rapidly growing, highly leveraged, in the midst of a turnaround or experiencing working capital gaps.
Retailers, manufacturers, distributors, and other low-margin, capital-intensive companies who experience seasonal peaks and troughs find asset-based lending fulfils some of their requirements.
Companies use asset-based lending for many growth-focused activities. Including to fund revenue increases, restock inventories, expand operations, acquire or upgrade physical assets, and pay suppliers.
These are precisely the reasons why many companies use Pay4. So how does Pay4 compare to asset-based lending as a finance option?
Comparing Pay4 to asset-based lending
A certain number of businesses use asset-based lending mainly because of the more relaxed qualification criteria and credit guidelines. Stricter traditional lending rules have created a new market for lending. One that is not based primarily around strong credit ratings, cash flow and profit margins.
For these typically lower credit-rated businesses, asset-based lending can be a useful, if risky method for securing additional working capital.
Yet there are many successful, growing business with healthy cash flow and revenues that use asset-based lending. For perceived benefits other than those associated with low credit scores: Speed of application, flexibility, and cost-effectiveness. It’s here where Pay4 can provide a smarter, low-risk alternative.
Our unsecured, insurance-backed revolving credit facility reduces exposure to risk. And provides a faster, simpler, more flexible and cost-effective option for growing businesses.
Risk and Control
- Asset-based lending
Asset-based lending debt is often seen as being easy to maintain control over. Businesses can only borrow up to the value of their assets. However, fixed asset values are subject to market forces over which companies have little control. What happens if the value of your assets drops? You could end up owing more on the loans than the assets are worth if you were to sell. This can result in high levels of bad debt.
On the other hand, if your collateral value goes up, your loan limits will likely not go up with it. This could result in a situation where your assets are collateralised at a much lower amount than their real worth. This puts the lender in a much stronger position than you.
In contrast, with an unsecured, insurance-backed facility such as Pay4’s where no collateral is used, you maintain control. And the risk is taken on by us. Our experience in risk assessment means that we can open a credit facility for a customer and take on the risk ourselves. The loan is secured through our own insurance arrangements. We only take on businesses we know are doing well and can pay us back.
Opening a revolving credit facility with Pay4 provides minimum risk and maximum control. With asset-based loans, you the borrower assumes the vast majority of the risk.
Speed of application
- Asset-based lending
Asset-based lending is often used when a business needs more immediate capital. Normally for project financing needs, or to seize opportunity as it arises. Asset-based loans are processed fairly quickly, when compared to implementing an overdraft with all its security requirements.
Yet lenders still require a lengthy due diligence process that can make asset-based lending a drawn-out process. Inspection of balance sheets and ledgers and an assessment of eligible assets are required before authorising an asset-based loan. This is to calculate a company’s allowable borrowing capacity. And it all takes time.
Pay4’s insurance-backed, unsecured credit facility is designed to be simple and streamlined. Applicants complete a simple enrolment process and provide financial information backing up their requested credit limit. Businesses are told within several days if we can provide them with a credit facility. We complete the application within a week of receiving all the required information.
- Asset-based lending
Businesses are encouraged to turn to asset-based lending because their structured nature suits the lender. However, the cost of asset-based lending can be higher than many other forms of borrowing due to various costs that are added. Costs associated with this can vary, but often include charges for site visits, collateral evaluations and interest costs.
When providing physical inventory or equipment as collateral, the credit offered might be less than half of the perceived value of the assets. This is because the assets might need to be sold quickly through liquidation or auction.
Also, other criteria such as the creditworthiness of the applicant can cause an asset-based loan to be more expensive.
How does Pay4 compare? No non-usage fees, a simple transaction fee for each use, and no administration charges. A truly cost-effective option for growing businesses. There’s no asset involvement to worry about. You get greater control, with no hidden costs, and no fluctuations. Just a pre-agreed credit limit with pre-agreed repayment terms.
- Asset-based lending
Asset-based lenders are typically flexible when it comes to how the money being lent is used. Businesses can still use their assets while they serve as collateral. This is in contrast to cash-based lending where cash used as security usually cannot be spent.
Asset-based lending can also scale with a business as it grows, helping to fund growth. Yet this requires a particularly creative and experienced lender. It also increases the risk for the business as it grows, with increasing amounts of assets being exposed as security.
Pay4’s unsecured revolving credit facility is designed specifically to be flexible and to finance growth. Once your revolving credit facility is approved, you can use it to pay any supplier, both UK and international. To bridge working capital gaps, optimise stock, manage peaks and troughs in demand, and secure early payment discounts. No non-usage fees means you can dip in and out as required to suit the needs of your business.
Successful businesses can increase their credit facility limit as they grow without cash or assets taken as security. And without exposing themselves to greater risk and the chance of borrowing over their asset value.
Also, because Pay4 is unsecured, it can also be used in conjunction with other forms of finance. Allowing you to create the best funding package for your growth strategy. One that scales with the success of your business, while keeping exposure to risk at a minimum.
- Asset-based lending
Compared with invoice factoring, other forms of asset-based lending are seen as providing more privacy for businesses. With invoice factoring, the factor must contact your customers to verify their accounts, and they will be requested to pay outstanding invoices direct to the factor. This means customers will know you are using factoring to help fund your business. With other asset-based lending, less interaction takes place between your lender and your customer. Unless, like the majority of businesses that use asset-based lending, you’re using your accounts receivable as collateral.
When accounts receivable is offered as collateral, the lender will normally require your customers send payments directly to them. This means that a third party effectively gains control of your cash flow. This can cause unwanted issues. For example, your lender may opt to ‘reserve’ more cash from your customers, rather than turning it over, if the receivables start to lengthen.
In comparison, Pay4 can be used without any involvement whatsoever from your customers or suppliers. You can enjoy the ability to secure early payment discounts from your suppliers without them knowing how. Offer favourable credit terms to customers without involving a third party. And retain complete control over your cash flow, you receivables, and your reputation.
Making a balanced choice
Asset-based loans are typically structured as revolving credit facilities, term loans or a combination of both. It depends on the company’s borrowing needs and the kinds of assets that are available as collateral.
Pay4’s revolving credit facility allows for the same flexibility, just without the risk and costs. Pay4 also has no involvement with your customers or suppliers, allowing you to retain full control over your voice ledger.
Do you use asset-based lending primarily because your credit, growth or revenue isn’t as strong as cash flow lenders would like? Then Pay4 is unlikely to be suitable for you. However, if your business meets the following criteria:
- Limited company or PLC incorporated in UK
- Trading for over 3 years
- Turnover of £1.5m+ per year
- Profitable with a capital base of £200k
- You make payments to your supplier of £5k +
Then you’ll find that Pay4 offers a simple, low-risk and flexible solution for financing your growth. No asset security, signing over invoice ledgers, customer involvement or punitive non-usage charges makes it risk-free and cost-effective. Pay4 is unsecured. This means it can work either as a replacement or alongside your traditional and asset-based lending arrangements. Providing your business with a balanced source of working capital.